November Producer Prices and Small Business Optimism

KEY DATA:  PPI: +0.8%; Over-Year: +9.6%; Goods Ex-Food and Energy: +0.8%; Services: +0.7%; Over-Year: +7.1%/ NFIB Optimism: +0.2 Points

IN A NUTSHELL: “Inflation comes, inflation goes, but maybe not as quickly as anyone, especially the Fed, would like.”

WHAT IT MEANS:  Inflation will subside, and it is likely to be transitory over the medium term, but so far, it is not showing signs of moderating. In November, producer prices spiked again and the year-over-year gain for the top-line measure is nearing double-digits.  Each month we keep saying it will come down, but it just doesn’t seem to be doing that.  And the increases are everywhere, in both goods and services, even when you remove volatile food and energy.  About the only segment where we saw any easing of costs was government related products.  Basically, the ability and willingness to raise prices has spread across the entire economy and while it may not become permanently embedded, it is getting harder to tamp down the inflationary pressures.

Small businesses are not a happy bunch.  Yes, the National Federation of Independent Businesses’ Overall Index rose a touch in November, but the details were not very good.  Expectations of the future are about as low as they get, as firms cannot find workers and are raising wages to try to retain or attract them.  The compensation index hit a forty-eight year record high.  This is not a sector that normally has much pricing power, so the added costs are raising real worries.     

IMPLICATIONS:  The Fed is meeting today and tomorrow, and today’s numbers are stoking the fire under the members.  How they handle the final transition from transitory to worrisome will be interesting, but expect Chair Powell to defend the Fed’s stand tomorrow at his press conference, while also making it clear the monetary authorities actually know the data and understand what is happening.  That is, they really are not clueless.  And the fact is, the Fed members do understand the situation, but they trapped themselves when they used the term “transitory”, thinking it was bland enough to survive the period of time it would take to ease the supply chain problems – however long that would be.  Unfortunately, like most economists, they didn’t expect this high a level of inflation for this long.  To show that they central bank is not going to fall further behind the curve, look for the FOMC to announce that the tapering process will be accelerated.  At least that is what 99.44% of all economists think will happen.  I am one of them.  Unfortunately, the supply chain will not get untangled because the Fed reduces its purchases of assets more quickly.  And inflation will not slow much with one or two rate hikes.  The Fed is not particularly well suited to deal with supply-related economic issues and that is what we have.  But it can show that it intends to do something, even if that something may not materially change conditions, unless the economy slows dramatically.  The next few months should be very interesting.  Without a clear deceleration in inflation, the Fed could be faced with a major dilemma: It needs to slow demand, but if it does so, the political impacts could be massive come next November.  Politics should never enter into the Fed’s thinking or actions, but in this world, nothing is apolitical anymore.  And Jerome Powell wants to be Fed Chair for another four years. What is he thinking?